ABSTRACT
Classical money was a specie, whose modern equivalent is central bank money, and its demand curve is a horizontal hyperbola. Money’s demand curve shifts in response to changes in interest rates that are determined by the supply and demand for savings or credit. Because income earners optimize their spending on three margins rather than two, as Keynes (1936) argues, it is impossible for the public to hoard all their incomes in cash when interest rates have fallen to some low level as claimed in Keynes’s liquidity trap. This chapter clarifies theoretically and empirically the error of Keynes’s liquidity-trap proposition.
